Income Tax Appellate Tribunal - Mumbai
Joint Commissioner Of Income Tax, ... vs Tirumalai Chemicals Ltd. on 10 April, 2006
ORDER
D.K. Srivastava, Accountant Member
1. The appeal filed by the department is directed against the order of the learned Commissioner (Appeals). The appeal relates to the assessment year 1994-95.
2. Ground No. 1 taken by the department reads as under:
1. On the facts and in the circumstances of the case and in law, the learned Commissioner (Appeals) has erred in deleting an amount of Rs. 86,77,374 on account of expenses incurred on catalyst heat transfer medium.
3. Briefly stated, the facts of the case are that the assessee has debited a sum of Rs. 31,65,678 to the Profit & Loss Account filed along with the return of income as expenses written off out of total expenses amounting to Rs. 1,57,90,736 claimed to have been incurred on catalysts and heat transfer medium during the previous year relevant to the assessment year under consideration. In the computation of income attached with the said return, the assessee, however, first added back the aforesaid amount to the profit as per Profit & Loss Account and thereafter claimed deduction for the entire amount of Rs. 1,57,90,736. On being asked to explain as to why the entire amount should not be considered as capital expenditure, the assessee explained before the assessing officer that catalyst and heat transfer medium were consurnables and not capital assets and hence the expenditure incurred thereon were in the nature of revenue expenditure. It was further explained before the assessing officer that catalysts and heat transfer medium were written off in the books over two years and four years respectively. These facts are quite categorically stated at page 2 of the assessment order. The assessing officer, however, held the impugned expenditure to be in the nature of capital expenditure and hence disallowed the same in its entirety but allowed the depreciation thereon under Section 32 of the Income Tax Act. The reasons given by the assessing officer in this behalf are contained in para 6.2 (page 3) of the assessment order which, in brief, are three-fold : one, there was no material to hold that the catalysts and heat transfer medium were in the nature of consurnables; two, the assessee itself was writing off the expenditure over a period of five years (the expenditure written off this year works out close to 20 per cent of the total expenditure); and, three, there was nothing to substantiate that they were not part and parcel or integral component of the main equipment/machine.
4. Aggrieved by the aforesaid order of the assessing officer, the assessee carried the matter in appeal before the learned Commissioner (Appeals). He held that the entire expenditure was revenue in nature and thus eligible for deduction, as claimed by the assessee. He gave three reasons for coming to the aforesaid conclusion; one, the catalysts and heat transfer medium were consumables as they had limited life; two, catalysts and heat transfer medium were not in the nature of capital asset and thus their procurement did not give any benefit of enduring nature to the assessee; and, three entries made in the books of account writing off only a part of expenditure were not conclusive. He has referred to a large number of authorities in his order in support of his decision.
5. In support of the appeal, the learned departmental Representative invited our attention to the factual aspects of the case and relied heavily on the observations made in the assessment order in this behalf.
6. Per contra, the learned Counsel for the assessee supported the order of the learned Commissioner (Appeals). He referred to the decisions cited by the learned Commissioner (Appeals) in his order in support of his case.
7. We have heard the parties and considered their submissions. The catalysts meant for the manufacture of Phthalic Anhydride (a bicyclic crystalline solid used in the manufacture of plastics, resins, dyes, etc.) and Maleic Anhydride (the anhydride of maleic acid used in synthesis to form addition compounds with substances containing conjugated carbon-carbon double bonds), are in the form of inert ceramic rings coated with the active chemicals catalyst powder. They require replacement with the passage of time due to their protracted use and wear and tear. They have therefore limited life. The investments that are made in their acquisition lead to generation income over the entire period of their use/life. The assessee is well aware of the aforesaid position and hence has written off and allocated the expenditure proportionately over the entire period of life of the catalysts and heat transfer medium. The assessee has followed a quite scientific method of accounting in allocating the impugned expenditure to each year during which they are capable of being used and generating revenue. in making the entries in the books of account allocating and thereby writing off a part of the impugned expenditure in the assessment year under appeal and thereby deferring/ staggering the remaining expenditure to the years corresponding to their income years, the assessee has simply sought to match the expenditure with the revenue for the assessment year under consideration as also for other years. The accounting treatment given by the assessee to the impugned expenditure is in consonance with the fundamental principles of accounting, which require the matching of revenue with costs for a given period. Neither the receipt nor the expenditure allocable to other years can be taken into account in computing the income of the current year.
8. The assessee is a public limited company registered under the Companies Act. It is required to maintain its books of account in accordance with the provisions of the said Act. It is also required to get its books of account audited by the statutory auditors and adopted by the Board of Directors as also by the General body of the shareholders at their General Meeting. A copy of the audited accounts is also required to be submitted to the Registrar of Companies. Hence, it cannot be readily presumed that the entries made therein are incorrect or that they have not been made in conformity with sound accounting principles or that they do not reflect true and fair view of the financial affairs of the assessed-company including its profits or that they are inconsistent with any law including the income-tax law which too deals with the computation of annual profits for levy of income-tax. The assessee has also not placed any material to suggest any of the aforesaid.
9. Being a company registered under the Companies Act of 1956, the assessee is statutorily required to maintain its account on accrual basis. The concept of "accrual" encompasses two aspects: one, it recognizes the income when it is earned; and two, it recognizes the expenditure when it is incurred. Both the aspects are like two sides of the same coin. They have to go together hand-in-hand. It is not possible to recognize the expenditure without recognising the income or vice versa. The fundamental difference between the case basis of accounting and mercantile basis of accounting lies in the matter of time when the income and expenses are recognized. Accountants often describe the process of periodical net income determination as a proper "matching" of revenue with the expenses by period. This is achieved by the actual basis of accounting. Under accrual basis of accounting, the costs directly associated with the revenue recognized during the relevant period (irrespective of whether money has been paid or not) are considered as expenses and are charged to income for that period. Therefore, costs expenses must be matched with revenues and vice versa in the given period. It therefore requires two elements to be satisfied: one, both the expenditure and revenue must be allocable to the same period or year; and two, the expenses incurred should be relatable/ consumable to the generation of revenue of that period. If there is deferment of income or the arisal of income takes place in other years, there has to be corresponding deferment of allocation of the expenditure also otherwise the accounts will present a distorted picture. In short, both the income as also the corresponding expenditure must be allocable to the same period. Admittedly, it is not the case of the assessee that the concept of matching of cost with the revenue is not applicable to its case. The matching concept required and the assessed, acting upon that concept, has deferred the expenses over certain years or, in other words, recognized the expenses in question in those very years in which it has recognized the corresponding income. Thus the accounting treatment given by the assessee to the impugned expenditure is well in conformity with the sound principles of accounting. By doing so, the assessee has avoided distortions in its profits. The statutory auditors, being well conversant with the matters of accounting, have thus rightly certified the accounts of the assessee to be correct.
10. The matching concept has been noticed, recognized and approved in several judicial authorities. The Hon'ble Jurisdictional High Court in Taparia Tools Ltd. v. Joint CIT has elaborately dealt with the matching concept in its judgment the relevant portion of which reads as under:
The mercantile system of accounting is based on accrual. Basically, it is a double entry system of accounting. Under the mercantile system of accounting, profits arising or accruing at the date of the transaction are liable to be taxed notwithstanding the fact that they are not actually received or deemed to be received under the Act. Under the mercantile system of accounting, therefore, book profits are liable to be taxed. The profits earned and credited in the books of account constitute the basis of computation of income. The system postulates the existence of tax insofar as monies due and payable by the parties to whom they are debited. Therefore, under the mercantile system of accounting, in order to determine the net income of an accounting year, the revenue and other incomes are matched with the cost of resources consumed (expenses). Under the mercantile system of accounting, this matching is required to be done on accrual basis. Under this matching concept, revenue and income earned during an accounting period, irrespective of actual cash in-flow, is required to be compared with expenses incurred during the same period, irrespective of actual outflow of cash. In this case, the assessee is following the mercantile system of accounting. This matching concept is very relevant to compute taxable income particularly in cases involving DRE. ..."(Emphasis italicised in print supplied)
11. In Madras Industrial Investment Corpn. Ltd. v. CIT the Hon'ble Supreme Court has dealt with the issue of deferred revenue expenditure as under:
Ordinarily, revenue expenditure, which is incurred wholly and exclusively for the purpose of business must be allowed in its entirety in the year in which itis incurred. It cannot be spread over a number of years even if the assessee has written it off in his books, over a period of years. However, the facts may justify an assessee who has incurred expenditure in a particular year to spread and claim it over a period of ensuing years. In fact, allowing the entire expenditure in one year might give a very distorted picture of the profits of a particular year. Jssuing debentures is an instance where, although the assessee has incurred the liability to pay the discount in the year of issue of debentures, the payment is to secure a benefit over a number of years. There is a continuing benefit to the business of the company over the entire period. The liability should, therefore, be spread over the period of the debentures.
12. Therefore, the matching concept, which we have referred to is well recognised by various judicial authorities including the judgments of the Supreme Court referred to by the Hon'ble Bombay High Court in Taparia Tools Ltd.'s case (supra). In Taparia Tools Ltd.'s case (supra), the Hon'ble High Court, while applying the matching concept, also considered the consequences that would follow if the entire expenditure sought to be claimed by the assessee was allowed in one year instead of deferring its allowance over a number of years during which the benefit was to follow. It held that allowing the entire expenditure in one year might give a very distorted picture of the profits of a particular year when the expenditure was intended to secure a benefit over a number of years. In the case before us, we are also concerned with the computation of correct profits and, therefore, the method of accounting followed by the assessee is relevant because accrual of income is to be seen in the light of the matching concept of accounting. Besides, Section 4 of the Income Tax Act, 1961 requires that income-tax shall be charged in respect of the total income of the previous year of every person. "Previous Year" is defined by Section 3 of the said Act to mean the financial year immediately preceding the assessment year. Section 28 provides, inter alia, that income in the nature of profits and gains of any business or profession shall be chargeable to tax under the head "Profits and gains of business or profession". It therefore follows that charge of income-tax is in respect of the profits that have accrued to the business during the previous year. "Profits" implies a comparison of the state of a business between two specific dates usually separated by an interval of a year; the fundamental meaning is the amount of gain made by the business during the year. It therefore requires that not only the income but also the expenses allocable to the earning of that income in the relevant previous year alone should be charged to the Profit & Loss Account. And this is what the assessee has exactly done in the case before us. The accounting treatment given by the assessee is thus not only in conformity with the sound accounting principles but also in conformity with the statutory provision of the Income Tax Act and the judicial decisions. It cannot therefore be said that the accounting treatment given by the assessee in its books is incorrect or is not in conformity with accounting principles or the provisions of the Income Tax Act.
13. Section 4 read with Section 28 of the Income Tax Act seeks to bring the correct amount of annual profits to tax. If the expenses allocable to 5 years are allowed to be charged to the Profit & Loss Account of one year, the resultant profit would not only be a distorted profit but would also open the floodgates for tax evasion. The focus of law is on correct determination of annual profit for taxation purposes and hence neither the revenue nor the expenses allocable to years other than the previous year can be taken into account in computing the profits of the business for the previous year relevant the assessment year under consideration. In fact, allowing the entire expenditure relatable to five years in the year under consideration would give a complete distorted picture of the profits of the year. And it is this reason, which led the assessee itself to stagger the expenditure as it secured the benefit over a number of years. Such a principle has also been judicially approved in several. cases. In Hindustan Aluminium Corpn. v. CIT , the Calcutta High Court upheld the claim of the assessee to spread out a lump-sum payment to secure technical assistance and training over a number of years and allowed a proportionate deduction in the accounting year in question.
14. Another factor which compels us to lean in favour of the accounting treatment given by the assessee to the impugned expenses is that there is no evidence on record to establish that all the catalysts and heat transfer medium procured this year were put to use this year. The expenses, which were incurred this year, would thus be in the nature of pre-paid expenses having been incurred in advance. If the assessee was keen to claim the entire expenditure, the burden was on the assessee to show that all the catalysts and heat transfer medium were procured and also put to use and thereby establish that the impugned expenses were not in the nature of pre-paid expenses. The failure of the assessee to discharge that burden coupled with the entries made in the books of account in this behalf compels us to accord primacy to the accounting treatment given by the assessee.
15. In view of the foregoing, four facts clearly emerge: one, the accounting treatment given by the assessee is in conformity with the sound accounting principles; two, the entries made in the books of account are neither incorrect nor can they be said to be presenting untrue or distorted picture of the profits of the assessee for the year under consideration; three, the accounting treatment given by the assessee is also in conformity with Section 4 read with Section 28 of the Income Tax Act which requires correct determination of the annual profits for charging them to income-tax; and, four, the accounting treatment given by the assessee is also in conformity with the judicial authorities referred to above.
16. The learned Commissioner (Appeals) has, however, held that accounting entries made by the assessee in its books of account are not decisive. We are unable to subscribe to such a rule of thumb that the entries made in the books of account are never decisive and therefore cannot form the basis for decision. In our humble understanding of the law on the subject, the books of account maintained in the regular course of business are relevant and afford prima facie proof of the entries and the correctness thereof. Even before a court of law, such books are evidence under Section 34 of the Evidence Act. As the rules of evidence are not strictly applicable to the assessment proceedings, the assessing officer should accept such books and/or entries made therein, barring the special deeming and specific onus provisions, to be correct unless he has in his possession some material to the contrary. Section 145 of the Income Tax Act requires the assessing officer to compute the income on the basis of the books of account unless he is satisfied that the books of account suffer from any of the defects mentioned therein. Qua the person maintaining the books of account, the entries made in the books of account are in the nature of admissions and hence they do not require further corroboration to bind the person maintaining the books of account. While the opposite party can bring material on record to impeach the books of account by showing them to be incorrect or unreliable but the person maintaining the books of account cannot himself plead that the entries made by him in his books are incorrect or do not reflect the true state of affairs. Should he however so assert, the burden will squarely be on him to prove the incorrect nature of the entries made in the books. Book entries made by an assessee, especially when they go against the averments of the assessee, are an extremely important piece of evidence though they are not conclusive and hence it is for him to show that the entries made in his books of account are incorrect. It is equally open to him to show that he is entitled to certain benefits, allowances or claims conferred on him by income-tax law notwithstanding the entries made in his books of account. Thus the entries made in the books of account are not decisive only when the assessee proves that they are factually incorrect or are inconsistent with the provisions of law or judicial decisions in the matter, If the entries made in the books of account go hand-in-hand with the sound principles of accounting for determination of correct profits and are also consistent with the provisons of the Income Tax Act, they cannot be discarded merely by saying that the entries made in the books of account are not decisive. The books of account or the entries made therein cannot be discarded by the person maintaining them unless they are shown to be incorrect or in conflict with law. If they are neither incorrect nor in conflict with law, they bind the person maintaining the books of account in the same way as a maker of admission is bound by his admission. In the case before us, the assessee has neither established the incorrect nature of the entries made in the books of account nor that they are inconsistent with the provisions of law or judicial decisions. On the other hand, the entries made in the books of account have been found to have been correctly made in consonance with sound principles of accounting. They have also been found to be in conformity with law inasmuch as they reflect correct annual profits for the year under consideration. They cannot therefore be discarded.
17. It is the case of the revenue that the impugned expenses are in the nature of capital expenses. We are unable to agree that the expenses are in capital field. The learned Commissioner (Appeals) has recorded a categorical finding that the catalysts are inert ceramic rings coated with the active chemicals having limited life. They by themselves do not produce anything. They are simply used as consumables in the machineries without which the machineries cannot be used. There is no evidence on record to controvert the said finding recorded by the learned Commissioner (Appeals). In this view of the matter, we confirm the finding recorded by the Commissioner (Appeals) that the catalysts and heat transfer medium are in the nature of consumables and hence not in the nature of capital expenditure. For the reasons given earlier in this order, we are, however, unable to accept that the entire expenditure is liable to be allowed during the year under consideration.
18. In view of the above, we modify the order of the learned Commissioner (Appeals) and direct the assessing officer to allow deduction for Rs. 31,65,678 actually debited to the Profit & Loss Account for the year under consideration. Depreciation allowed, if any should consequentially be withdrawn.
19. Ground No. 1 is partly allowed.
20. Ground No. 2 reads as under:
2. On the facts and circumstances of the case and in law, the learned Commissioner (Appeals) has erred in deleting an amount of Rs. 59,83,993 on account of payment of lease rental to ICICI Ltd.
21. The facts, which have led to the impugned addition, are given in para 7 of the assessment order. The assessee has debited Rs. 33,20,178 to the Profit & Loss Account as expenses towards lease rentals. In the computation sheet attached with the return of income, the assessee has added back the aforesaid sum but claimed deduction of Rs. 93,04,171 on the ground that lease rental was payable at the rate of Rs. 7,75,348 per month as per lease agreement with ICICI. According to the assessing officer, the assessee has been writing off the lease rental in the books over the life of the asset and hence it is not justified in claiming the entire lease rentals as per the agreement. Referring to the decision in CIT v. UCO Bank , he has held that the assessee cannot show one system of accounting in the books of account and adopt another system of accounting for the computation of income.
22. On appeal, the learned Commissioner (Appeals) has allowed the deduction for entire lease rental, as claimed by the assessee on the ground that the entries in the books of account were not decisive.
23. We have heard the parties and considered their submissions. Whether entries made in the books of account are decisive or not depend on the facts of the case. As held above, they cannot be lightly discarded unless they are shown to be incorrect either on facts or in law and this is more so when the accounts of the assessee stand audited by the statutory auditors certifying their correctness as also their adoption by the general body of the shareholders. There is no indication in the order of the learned Commissioner (Appeals) as to the basis on which the entries were made by the assessee in its books and as to how they were found to be incorrect so as to discard them. It does not seem probable that the assessee would have just made entries in the books of account claiming the expenses over the entire life of the asset without there being any supporting basis or terms and conditions in the lease agreement. In our view, the lease agreement needs to be carefully examined to find out the basis for the entries made in the books as also whether such accounting treatment is in conformity with law. The order of the learned Commissioner (Appeals) in this behalf is therefore set aside and the issue is restored to his file for a fresh examination and decision after giving a reasonable opportunity of hearing to both the parties. Ground No. 2 is treated as allowed for statistical purposes.
24. Appeal filed by the department is partly allowed.